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Saturday Quiz – March 13, 2010

Welcome to the billy blog Saturday quiz. The quiz tests whether you have been paying attention over the last seven days. See how you go with the following five questions. Your results are only known to you and no records are retained.

Quiz #51

  • 1. From the US National Accounts, you find that in 2006, the share of Personal consumption expenditure in real GDP was 69.9 per cent and by 2008 it had fallen to 69.8 per cent. Similarly, the share of Gross private domestic investment on real GDP was 17.2 per cent in 2006 and by 2008 had fallen to 14.9 per cent (and further to 11.8 per cent in 2009). The net export deficit over the same period (2006 to 2008) fell from -5.7 per cent of real GDP to -4.9 per cent in 2008. Finally, the share of Government consumption expenditures and gross investment in real GDP rose from 18.8 per cent in 2006 to 18.9 per cent in 2008 (and 19.7 per cent in 2009). These relative changes tell you that real GDP was lower in 2008 compared to 2006 because the increase in Government spending and the falling negative contribution of net exports were not sufficient to offset the declining contribution from consumption and investment.
    • False
    • True
  • 2. The US Senate has recently debated whether to extend unemployment benefits given the lack of job opportunities currently available. One side of the debate says the proposal will reduce growth because it reduces the incentive to search for work although the evidence for this impact is weak. The other side of the debate says the proposal will maintain and perhaps stimulate growth because it will maintain spending capacity of those without work. Even if the former effect was strong, the proposal would not harm growth at present.
    • False
    • True
  • 3. The suggestion to create a European Monetary Fund is motivated by the desire to prevent sovereign defaults among member countries who are having trouble covering their net spending positions with market-sourced finance. The solvency risk is however sourced in the restrictions imposed on deficit and debt ratios by the Stability and Growth Pact which member states voluntarily agreed to.
    • False
    • True
  • 4. In the February Labour Force data for Australia released last Thursday, we learned that employment grew by only 400 in net terms during the month of February. Other highlights were that unemployment rose by 10,700 and that the labour force participation rate fell by 0.1 per cent indicating a rise in the proportion leaving the labour force. Taken together this data tells you that:
    • The labour force grew faster than employment but not as fast the working age population.
    • The working age population grew faster than employment and offset the decline in the labour force arising from the drop in the participation rate.
    • The labour force grew faster than employment but you cannot tell what happened to the working age population from the information provided.
  • 5. If the household saving ratio rises and there is an external deficit then Modern Monetary Theory tells us that the government must increase net spending to fill the private spending gap or else national output and income will fall.
    • False
    • True

Sorry, quiz 51 is now closed.

You can find the answers and discussion here

This Post Has 4 Comments

  1. I have a general question. If net private savings equals government deficit, why doesn’t the US government have a $53 trillion deficit on its books, which would equate to private wealth overall? Where does this accounting equality end up, or is the excess over the accumulated government deficit all on the private side, due to endogenous savings/debt?

  2. “I have a general question. If net private savings equals government deficit, why doesn’t the US government have a $53 trillion deficit on its books, which would equate to private wealth overall? Where does this accounting equality end up, or is the excess over the accumulated government deficit all on the private side, due to endogenous savings/debt?”

    MMT says non government net financial assets equate to outstanding government (net) financial liabilities.

    Outstanding government liabilities include bank reserves, currency, and publicly floated bonds. This is roughly the net position, allowing for the fact that the Fed Reserve balance sheet currently includes some non government financial assets.

    Use $ 10 trillion as a round number for the total government (net) liability position. That includes the public float of bonds, currency, and at least some part of the excess bank reserve position at the Fed.

    Non government encompasses the private sector and the foreign sector net position in US domiciled assets and US issued liabilities.

    The foreign sector’s net asset position in the US is around $ 3.5 trillion. That position consists almost entirely of financial claims on US entities.

    The private sector consists of the household sector and the business sector.

    Household net worth of $ 54 trillion includes tangible assets of $ 23 trillion.

    Therefore household net financial assets total about $ 31 trillion.

    So the sum of household net financial assets and foreign net financial assets is $ 34.5 trillion.

    Those two combined, plus the business sector, should equate to $ 10 trillion.

    They don’t, so the difference must be due to the business sector.

    The difference is $ 24.5 trillion in net financial assets that must be offset by the business sector.

    Roughly $ (25) trillion then corresponds to the net financial asset position of the business sector.

    The business sector net financial asset position is negative because businesses have outstanding net financial liabilities on an ongoing basis as a matter of financing their net real assets.

    In this context, the stock market value of equity is also treated as a liability for purposes of tracking net financial assets. Therefore the market value of stocks held as assets within the non government sector is cancelled by the same value issued as liabilities. (If interested for more on this, see discussion in comments toward the end here:

    Also, within the non government sector, all types of non government financial claims on both sides of financial intermediary balance sheets are netted out, including non government debt, stocks, mutual fund shares, pension and insurance liabilities, etc.

    The result of all such netting within the non government sector is that it’s net financial asset position consists entirely of net financial claims on the government sector.

    The numbers used and their aggregation are rough, but that’s the general idea.

  3. Follow up to Sunday, March 14, 2010 at 4:50 :

    The sector financial balances model is derived from the national income accounts model. Bill explains the derivation in many places in his blog, including in the follow up answers and discussion to question 5 above.

    The end result in crude form is the following (flow) equation for sector financial balances (SFB):

    Government deficit
    = non government net saving
    = private sector net saving plus foreign sector net saving

    A corresponding stock model accumulates such flows over prior accounting periods to the present. Cumulative deficits are represented by reserve, currency, and debt liabilities; cumulative net saving is represented by non government holdings of those liabilities. The resulting net financial asset position of the non government sector is composed exclusively of government liabilities.

    Referring to my previous comment, household “tangible assets” are obviously not included in the final derivation of net financial assets for the non government sector. And because the net financial asset calculation also nets out business liabilities against corresponding financial assets held by other sub-sectors, the value of cumulative business investment as represented by those liabilities is not included in the final derivation of net saving. The exclusion of both of these physical, tangible, real asset/investment categories from the final calculation for net financial assets is thus consistent with subtracting both investment and equivalent saving from the original national income model in order to derive the SFB model.

    From earlier numbers:

    Household cumulative investment = $ 23 trillion

    Business cumulative investment, valued according to financial liabilities = $ 25 trillion

    Total cumulative investment = $ 48 trillion

    This cumulative investment number reflects valuations at market prices. This includes business financial liabilities (especially stock market values) and household residential real estate.

    The national accounts model is consistent with the equivalence of investment and aggregate saving from all sector sources – including the foreign sector. A country with a current account deficit (like the US) makes up the difference between domestic investment and domestic saving by importing saving. In that case, the foreign saving contribution is positive. Conversely, a country with a current account surplus makes up the difference between domestic saving and domestic investment by exporting saving. In that case, the foreign saving contribution is negative.

    Consistent with this full sector view of the sources of saving, a government deficit translates implicitly to “negative financial saving”. The same deficit translates to “positive financial saving” for the non government sector. The MMT SFB model extracts this component as non government net (financial) saving. At a stock level, this results in the non government net financial asset position.

    From the earlier numbers, cumulative saving and investment is $ 48 trillion at market prices. Embedded within this is a cumulative government deficit of $ (10) trillion, and cumulative non government “net saving” or net financial assets of $ 10 trillion. As a result, the total cumulative non government saving in the national accounts model would equate to $ 58 trillion at market prices. That equates to the sum of $ 48 trillion of saving backed by real investment, and $ 10 trillion of net financial saving.

    This $ 58 trillion is the net worth of the non government sector relative to US domiciled assets. It breaks down between $ 54 trillion in household net worth and $ 4 trillion (rounded) in the net international investment position of the rest of the world (foreign sector) with the US.

    Within this $ 58 trillion net worth position, the MMT SFB model examines the role of the $ 10 trillion net financial asset component. This component is reflected explicitly in government liabilities of reserves, currency, and debt. These elements can be distributed across subsectors of the non government sector. Government bonds can be held directly by households, business, or the foreign sector.

    There is no straightforward mapping between the SFB model financial balances (stock form) and the distribution of government liabilities that make up the consolidated net financial asset position of non government. E.g. it is obviously possible for foreign holdings of government debt to be either larger or smaller than the foreign sector surplus in the SFB model. But the consolidation of non government financial balances must still equate to the net financial asset position held in the form of government liabilities.

    The general policy orientation of MMT is that governments need to respond with net expenditure and deficits when aggregate demand is too low and the non government demand for net saving is not yet satisfied. Net government expenditures constitute an effective increase in aggregate demand, creating new income that translates to new net saving at the macro level.

    In the context of the macro numbers presented above, I interpret the nature of such a policy response, in the context of stocks and flows, as follows:

    The total gross saving (stock) of the non government sector is $ 58 trillion, consisting of $ 48 trillion backed by real investment and $ 10 trillion in net financial assets. This total saving stock expands (as a flow) through both the real investment channel and the net financial asset channel. We know that aggregate investment must equal aggregate saving from all sources. In that sense, investment determines saving, where saving is viewed across all sectors. If it is the case that the real investment channel is lagging in producing a supply of saving sufficient to satisfy non government demand for saving, then the government can satisfy that demand via the net saving channel through net expenditures and corresponding deficits.

    As they say, all errors are mine.

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